Russia sparks oil rally, but Saudis still hold the cards

Oil traders appear increasingly confident that major producers will reach an agreement to cap output thanks to comments from Russia’s energy minister on Monday, but Saudi Arabia still holds the cards that will determine how far the rally can run.

Oil futures have been on an overall uptrend over the past week on expectations that producers will take action to ease the market’s supply burden. West Texas Intermediate, Brent and crudeoil finished last week with gains of more than 6%.

The Organization of the Petroleum Exporting Countries’ President Mohammed bin Saleh al-Sada on Aug. 8 said the cartel would hold an informal meeting late next month to discuss ways to stabilize the market. On Thursday, Saudi Arabia’s Energy Minister Khalid al-Falih expressed willingness to participate in those talks, which some analysts say could lead to a pact to freeze production.

Traders were so enthused by al-Falih’s comments that they rallied prices on Friday, despite data showing a seventh straight weekly climb in the number of active U.S. oil-drilling rigs.

Now, Alexander Novak, Russia’s energy minister, said his country, which is not a member of OPEC, is consulting with the Saudis and other producers to stabilize the oil market, according to an interview with Saudi-owned newspaper Asharq al-Awsat.

“The major players seem to be on board—the ones that really matter and that should allow for a deal to get done,” said Phil Flynn, senior market analyst at Price Futures Group, in a note.

Russia is the world’s largest crude–oil producer, while Saudi Arabia is OPEC’s largest producer and the world’s biggest oil exporter.

An attempt last spring to reach an agreement in Doha, Qatar to freeze output failed after Iran refused to join in, prompting the Saudis to give up on the plan.

But on Monday, the comments from Russia fed the oil rally. September West Texas Intermediate crude CLU6, +0.09% added $1.25, or 2.8%, to settle at $45.74 a barrel—the highest settlement since July 15. October Brent crude LCOV6, -0.10% rose $1.38, or 2.9%, to $48.35 a barrel on London’s ICE Futures exchange, the highest finish since July 12.

The talk from Russia is a big deal in terms of a potential production freeze, said James Williams, energy economist at WTRG Economics. As for an output cut, “they won’t do it,” he said.

Saudi power

But Anas Alhajji, an independent energy expert and former chief economist at NGP Energy Capital Management, told MarketWatch that the real power to influence the market lies in the hands of Saudi Arabia.

He sees OPEC as “irrelevant—it is all about Saudi actions.” But for now, “a production freeze is meaningless since all [OPEC] members are at or near maximum production capacity,” said Alhajji.

A report from OPEC showed that Saudi Arabia’s oil output hit an all-time high in July at 10.67 million barrels a day, while a report from the International Energy Agency revealed that OPEC’s collective production reached an eight-year high of 33.39 million barrels a day in July.

The OPEC report attributed the Saudi output climb, in part, to the country’s need to meet seasonally higher demand.

The market may see a “little lower” Saudi production because it “will not need as much to generate electricity as we move into the fall,” Williams said.

But Williams expects the Saudis to say no to a cut in production. “Both the Saudis and Kuwait have increased their discounts on shipments to Asia as they battle Iran and Russia for market share,” said Williams.

Still, action by the Saudis is the key, according to Alhajji.

“Saudi Arabia alone can stabilize the market by end of the year by cutting production back to 10 [million barrels a day] immediately and [keeping] it at that level,” Alhajji said. “They do not need the cooperation of other countries.”